Trading Strategies
Dateline: 07/09/99
In Wednesday's article we asked whether we could develop a trading strategy to improve the profitability of a particular stock by buying and selling the same stock depending on where the stock is in its trading cycle. While acknowledging that we cannot accurately predict the market, we did notice that many stocks, even blue chips, have their ups and downs. What if we sold a stock when it was off its recent high by 10% and bought back in when it was off its recent low by the same amount?
Such a strategy works, we noted, if the stock swings more than twenty percent between its peaks and valleys. But lesser swings will produce losses. We tested the method on Barrick Gold using June 1, 1998 to June 30, 1999 as our test period. The results were interesting, to say the least. Barrick bought and held for that period produced a return of 5.4%. Trading according to our formula produced a return of 33.6% after brokerage fees.
Today we're going to look at a stock that virtually doubled in price for the same period to see if trading would have boosted that return even more. The stock is Microsoft. Since Microsoft had a stock split this year, the prices are adjusted for the split. The actual price on June 1, 1998 was $83.75. Split adjusted it was $41.88. The chart below shows the highs and lows when the stock fluctuated more than 10% either way.
| Date | Price | % Change |
| June 1, 1998 | $41.88 | n/a |
| July 17, 1998 | $58.97 | + 40.8% |
| Sept. 4, 1998 | $48.31 | - 18.1% |
| Sept. 23, 1998 | $56.81 | +17.6% |
| Oct. 8, 1998 | $45.59 | -19.7% |
| Jan 29, 1999 | $87.50 | + 91.9% |
| Feb. 18, 1999 | $72.88 | -16.7% |
| Apr. 8, 1999 | $94.56 | +29.7% |
| June 14, 1999 | $77.56 | -18.0% |
| June 30, 1999 | $90.19 | +16.3% |
And the table below shows the trades made based on an initial sum of $10,000. Shares and valuations are rounded off to the nearest whole share and dollar.
| Date | Highs & Lows | Trade Price | Shares (after trade) | Value |
| June 1, 1998 | $41.88 | $41.88 | 239 | $10,000 |
| July 17, 1998 | $58.97 | $53.07 | 0 | $12,684 |
| Sept. 4, 1998 | $48.31 | $53.14 | 239 | $12,684 |
| Sept. 23, 1998 | $56.81 | $51.13 | 0 | $12,220 |
| Oct. 8, 1998 | $45.59 | $50.15 | 244 | $13,152 |
| Jan 29, 1999 | $87.50 | $78.75 | 0 | $19,215 |
| Feb. 18, 1999 | $72.88 | $80.17 | 240 | $19,215 |
| Apr. 8, 1999 | $94.56 | $85.10 | 0 | $20,424 |
| June 14, 1999 | $77.56 | $85.32 | 239 | $20,424 |
| June 30, 1999 | $90.19 | $90.19 | 0 | $21,555 |
You can see from the first table that Microsoft never dropped more than 20% from its recent high during the period, even with the big market correction last year. In the end we ended up with exactly the same number of shares we started with. So with Microsoft, there would have been absolutely no advantage to trading the stock per our criteria. In fact, we end up losing $270 in brokerage fees.
However, if we are worried that even Microsoft may some day take a big fall, then our trading strategy costs us little but gives us peace of mind during corrections. My own preference is to hold Microsoft through thick and thin.
We've looked at two different stocks now. Both were high quality, solid companies with excellent track records. With Barrick Gold, trading per our criteria turned a poor gain into a large gain. With Microsoft, the strategy did not make any difference.
The rationale for our trading strategy is two fold. One reason, of course, is that we want to increase our profits by taking advantage of fluctuations in the market. The second reason, and the reason why we're looking at this particular strategy, is that we want a simple method that anyone can follow. A method that does not require understanding and calculating market trends, Bollinger Bands, resistance points or any other technical stuff.
This method affords the safety of reducing downside risk to 10% of a stock's value. At the same time, if we have chosen a good solid stock, it gives us a method where we can jump back in without too much cost. If the stock in question, for example, only drops exactly 10% and then climbs again, we only lose 9% of the stock's value for having traded it.
Soon I will be developing a portfolio on line and this methodology of selling if a stock declines 10% from its recent high and buying when it gains ten percent from its recent low is one of the rules I'll be applying to the portfolio. Other criteria will decide which stocks to pick in the first place. And still others will determine if we should bail out of a stock for good.
In the meanwhile, I will be doing a few more case studies which I'll post as separate charts as I develop them. In particular, I'm curious to see how the methodology would work with a stock that is on a long run slide with significant fluctuations in between. Loewen Group perhaps?
Comments? Suggestions? Why not post them on our Bulletin Board or email me.
E-mail me!
07/07/99 - Trading
on Volatility: Case Study # 1 - Barrick Gold
We try out a method of trading stocks based on their fluctuations
from recent highs and lows to see if it will improve our profits.
07/05/99 - Internet
Update: Recent High Flyers
Ten stocks on our Internet indexes gained over 10% last week. We
profile two of them and take a look at Nortel Networks as well.
07/02/99 - Volatility
Can Be Your Friend
In theory, you can make more money trading
stocks than using a buy and hold strategy. But deciding when to
buy and sell - ah! There's the rub!
06/30/99 - Saving
Canadian Hockey
Does Canadian hockey need a government bailout to stay viable?
Why help just hockey with tax relief? Why not simply abolish the
corporate income tax for all businesses?
06/28/99 - Internet
Update: Week in Review
TD Waterhouse IPO launched, USA Video soars, Jetform Corporation
tanks.
Disclosure: The author owns shares in Barrick Gold and in Microsoft.
Canadian Mutual Fund Database - More fund companies added to the database bringing the total now to 51 companies.
Internet Stocks Net Links - We've added an Internet Stocks category to our library of Net Links.
IPOs - I've dropped the Odds & Sods category from my library of Net Links and added IPOs after a reader inquired about how to find IPO info on Canadian stocks. Fact is, there's precious little available on the Net, but what I've found I've listed! I've also included links for American IPOs for which there is quite a bit of information.
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